Returns On Capital At Shenzhen Absen OptoelectronicLtd (SZSE:300389) Have Stalled

Finding a business that has the potential to grow substantially is not easy, but it is possible if we look at a few key financial metrics. One common approach is to try and find a company with returns on capital employed (ROCE) that are increasing, in conjunction with a growing amount of capital employed. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. In light of that, when we looked at Shenzhen Absen OptoelectronicLtd (SZSE:300389) and its ROCE trend, we weren't exactly thrilled.

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What Is Return On Capital Employed (ROCE)?

For those that aren't sure what ROCE is, it measures the amount of pre-tax profits a company can generate from the capital employed in its business. To calculate this metric for Shenzhen Absen OptoelectronicLtd, this is the formula:

Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)

0.066 = CN¥109m ÷ (CN¥3.6b - CN¥2.0b) (Based on the trailing twelve months to December 2024).

So, Shenzhen Absen OptoelectronicLtd has an ROCE of 6.6%. On its own, that's a low figure but it's around the 5.8% average generated by the Electronic industry.

View our latest analysis for Shenzhen Absen OptoelectronicLtd

While the past is not representative of the future, it can be helpful to know how a company has performed historically, which is why we have this chart above. If you're interested in investigating Shenzhen Absen OptoelectronicLtd's past further, check out this free graph covering Shenzhen Absen OptoelectronicLtd's past earnings, revenue and cash flow.

What The Trend Of ROCE Can Tell Us

There are better returns on capital out there than what we're seeing at Shenzhen Absen OptoelectronicLtd. Over the past five years, ROCE has remained relatively flat at around 6.6% and the business has deployed 21% more capital into its operations. Given the company has increased the amount of capital employed, it appears the investments that have been made simply don't provide a high return on capital.

Another point to note, we noticed the company has increased current liabilities over the last five years. This is intriguing because if current liabilities hadn't increased to 54% of total assets, this reported ROCE would probably be less than6.6% because total capital employed would be higher.The 6.6% ROCE could be even lower if current liabilities weren't 54% of total assets, because the the formula would show a larger base of total capital employed. So with current liabilities at such high levels, this effectively means the likes of suppliers or short-term creditors are funding a meaningful part of the business, which in some instances can bring some risks.

What We Can Learn From Shenzhen Absen OptoelectronicLtd's ROCE

As we've seen above, Shenzhen Absen OptoelectronicLtd's returns on capital haven't increased but it is reinvesting in the business. Although the market must be expecting these trends to improve because the stock has gained 52% over the last five years. Ultimately, if the underlying trends persist, we wouldn't hold our breath on it being a multi-bagger going forward.

Like most companies, Shenzhen Absen OptoelectronicLtd does come with some risks, and we've found 2 warning signs that you should be aware of.

If you want to search for solid companies with great earnings, check out this free list of companies with good balance sheets and impressive returns on equity.

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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.